We Actaully Need the Recession

I know I wrote a piece not too long ago about how we needed the bail-out plan and that the government was being reckless by not approving it. I have to admit, I am having second thoughts.

I recently had an interesting YouTube video sent my way. If you haven’t seen it already, check it out here. This video features Peter Schiff, who according to Wikipedia is the president of Euro Pacific Capital, Inc. a brokerage firm. I know over the years, the CNBC’s, MSNBC’s and the like have always had him on their shows to represent the “Bear,” point of view; to the point where he earned the nickname, “Dr. Doom.” Well, it turns out that in 2006 he called the financial mess that we are in now as if he was Nostradamus incarnate.

He spoke in an interview on CNBC in August 2006 (!) about an impending recession in 2007 or 2008 and that it will not last for quarters, but for years. “The problem,” he said of the US economy is that, “there is too much consumption and borrowing and not enough production and savings.” So, the American consumer will eventually stop borrowing and consuming and start rebuilding savings, especially when home equity values — which in 2006 he was already calling as artificially inflated — “evaporated.” He continued to say that you can’t have an economy based on consumption correct the imbalance without a recession. The recession should not be resisted, it should be embraced because the disease is the debt/finance consumption and the cure is to return to saving and producing, which in his opinion is essentially a recession.

So, are we perpetuating the problem with all of the economic bail out and stimulus bills? I know I was absolutely for the stimulus plan for the financial sector. But do we need to continue bailing out companies or will the system right itself when the economy, as Schiff intimates, corrects itself by consumers saving and producing once again? As he says, “Medicine tastes bad, but you gotta swallow it.”If you have the time, watch the video in its entirety (it is almost 10 minutes long). It is incredibly interesting to see Dr. Doom be constantly painted as the Chicken Little, (my favorite being by Ben Stein from Ferris Bueller fame saying the financial stocks are the great value and Merril Lynch is a steal at $66. I hope he didn’t have too much of that stock). Point being, I now think I may have been wrong about the stimulus. Its interesting considering the market is now rebounding after the bail out of Citi. Rates finally took a nice dip today. I don’t claim to know why, could be a combination of easing tensions as a result of the Citi bailout as well as news that the government will be buying troubled loans from Fanny/Freddie. But I think Schiff’s point is extremely powerful.

It is like the fable of the man building the house on sand rather than rock. If we are not allowing our economy to re-build off of a solid foundation of production and savings – the two most basic concepts of fiscal solvency – then ultimately that foundation will be whisked away when the next wave hits the economy. What is more, because home values will still not be based on anything real, only fictitious value driven by increased borrowing thereby driving home values back up, I think we may just be setting ourselves up for more and bigger falls.

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After reading your post and watching the video, I could not agree more with the fact that we need a recession to cure the economy. The reality is (or, optimistically, was) that far, far too much of our economy was based on fiction – sand as you say. How many layers of fat and commissions were built onto mortgages that didn’t had an icecube’s chance in hell of being paid back. Like the $720,000 loan in Bakersfield made to an undocumented Mexican immigrant with -undocumented- $14k annual salary. 0 down. That got repackaged, sold and resold, slapped a AAA Moody’s rating on it and ended up in some poor suckers retirement account. Oh wait, the poor sucker was me!

If the ‘000’000’s of people who have lost their jobs in the finance industry (sad as it is on a human level) were to take up jobs in something *productive*, would the economy not be better off? If the PhDs that have been whisked away to wall street to do fancy financial engineering, would actually do some *real* engineering and deliver more efficient production processes, factories, oil-consumption alternatives, etc. – would we not be better off?

Now, I do see the requirement for a bail out. As harsh as the medicine is that we need to recover, and mind you, the medicine is the recession itself, we can’t afford to kill the patient while it’s being administered. It’s important to secure the financial system, and it is important to handle the human fall out of all this with great compassion and mercy. But the recovery will be slow and painful – much like chemo.

Now, given all that, how does it strike you that the top brass at Wachovia is scheduled to walk away with a nice pay package of 100m when the Wells acquisition closes? But, I rant.